NATIONAL QUALIFICATIONS CURRICULUM SUPPORT
Accounting
Financial Accounting Regulations,
Social Accounting
and Principles of Accounting
[ADVANCED HIGHER]
Susan McAuley
The Scottish Qualifications Authority regularly reviews
the arrangements for National Qualifications. Users of
all NQ support materials, whether published by LT
Scotland or others, are reminded that it is their
responsibility to check that the support materials
correspond to the requirements of the current
arrangements.
Acknowledgement
Learning and Teaching Scotland gratefully acknowledge this contribution to the National
Qualifications support programme for Accounting.
© Learning and Teaching Scotland 2005
This resource may be reproduced in whole or in part for educational purposes by educational
establishments in Scotland provided that no profit accrues at any stage.
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Contents
Section 1:
Financial Accounting Regulations
Accounting Standards Board
Statement of Principles
Examples of Financial Reporting Standards
4
4
7
10
Section 2:
Social Accounting
Environmental Issues
Sustainability
Legal Requirements
18
19
20
21
Section 3:
Principles of Auditing
External Auditing of a plc
Auditor’s Responsibility
Statutory Duties
The Audit Report
24
25
25
26
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Section 1
Accounting Standards Board
The Financial Reporting Council (FRC) is the UK’s independent regulator for
corporate reporting and governance. The chairman of the FRC is appointed
by the Department of Trade and Industry and the Bank of England. The
functions undertaken by the regulator are carried out by operating bodies that
it supervises; these include the Accounting Standards Board and the Auditing
Practices Board.
The Accounting Standards Board (ASB) took over from the Accounting
Standards Committee (ASC) in 1990. Under the terms of the Companies Act
1985 its role includes developing principles to guide standards; to provide a
framework to resolve financial accounting and corporate reporting issues; and
to issue new accounting standards or amend existing ones. The ASB has the
power to issue its own standards which the ASC did not, the intention being
to increase the quality of accounting standards and increase the speed with
which they are issued in response to new problems encountered in
accounting. The ASC also contributes to the achievement of the FRC’s
fundamental aims by improving standards of financial accounting and
corporate reporting.
The ASB has up to ten board members. The chairman and technical d irector
are full-time members while the remainder, who represent a variety of
interests, are part-time. Board members are appointed by a Nominations
Committee comprising the chairman and fellow directors of the Financial
Reporting Council (FRC). Three observers also attend ASB meetings. Under
the ASB’s constitution, votes of seven board members are required for any
decision to adopt, revise or withdraw an accounting standard.
The ASB also collaborates with accounting standard -setters from other
countries and the International Accounting Standards Board (IASB) to
guarantee that its standards are developed with due regard to international
developments as well as to ensure they influence the development of
international standards.
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The Accounting Standards Board is autonomous in its role in issuing
standards. It is, however, the practice of the Board to consult widely on all
its proposals.
The accounting standards produced by the ASB are called ‘Financial
Reporting Standards’ (FRSs). The former ASC sta ndards were designated
‘Statements of Standard Accounting Practice’ (SSAPs). The ASB are
gradually renewing the SSAPs with FRSs but some SSAPs still remain and
they fall within the legal definition of accounting standards.
‘Accounting standards are authoritative statements of how particular types of
transactions and other events should be reflected in financial statements and
accordingly compliance with accounting standards will normally be
necessary for financial statements to give a true and fair view’ (FRC 2004).
Accounting standards are authoritative statements detailing how particular
types of transaction should be reported in financial statements and
accordingly compliance with accounting standards will normally be necessary
for financial statements to give a true and fair view.
Although the initial purpose of creating accounts standards was to define
proper accounting practice within a legal framework, it has also resulted in
the creation of a common understanding between users and preparers.
Accounting standards apply to all companies and other kinds of entities that
prepare accounts which are intended to provide a true and fair view. New
topics which are recognised as requiring FRSs are identified by the Board
through research or submissions from interested parties. Unlike its
predecessor body (the ASC), the ASB can issue accounting standards on its
own authority, without the approval of any other body. The ASB also
develops principles to guide it in establishing accounting standards; their
statement is discussed later (page 7).
Development of Accounting Standards
The ASB identifies topics that become the subject of FRSs, either from its
own research or from external sources, including submissions from interested
parties.
When a topic is identified by the ASB as requiring the issue of an FRS, the
ASB commissions its staff to undertake a programme of research and
consultation. This programme involves consideration of and consultation on
the relevant conceptual issues, existing pronouncements and practice in the
United Kingdom, the Republic of Ireland and overseas, as well as the
economic, legal and practical implications of the introduction of particular
accounting requirements.
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Once the issues have been identified and debated, the ASB produ ces a
discussion draft which is circulated to any parties who have registered their
interest. If they consider more discussion is required, a discussion paper
which sets out the issues and, if appropriate, proposed solutions would be
published instead. Both of these papers are designed to allow parties who
will be affected by the proposal to have a say in its articulation.
Thereafter an exposure draft of an accounting standard (a Financial Reporting
Exposure Draft or FRED), setting out the text of the pr oposed standard, is
published to allow an opportunity for all interested parties to comment on the
proposals and for the Board to gauge the appropriateness and level of
acceptance of those proposals.
Any feedback received before a stated deadline is used to refine the exposure
draft where necessary, and depending on comments received may result in
another period of public exposure prior to issuing the FRS.
All the relevant information is available on the ASB’s website and interested
parties can make comments on proposals by e-mail. Thereafter the comments
from interested parties are discussed and a technical plan is developed. From
this the final standard is developed.
From time to time and for a variety of reasons, deficiencies in accounting
standards can become apparent. For this reason a sub -committee of the ASB
was formed following a recommendation in the Dearing Report. This sub committee is called the Urgent Issues Task Force (UITF) and is called upon
to resolve such issues urgently, where appropriate.
Urgent Issues Task Force
The UITF comprises up to fifteen members experienced in the technicalities
of financial reporting. Its purpose is to enlist the experience and influence of
its members to assist the ASB in its task of establishing and improving
standards of financial accounting and reporting, for the benefit of users,
preparers and auditors of financial information.
When an urgent situation arises where unsatisfactory or conflicting
interpretations of an existing accounting standard oc cur and an urgent
response is required to ensure that a ‘true and fair view’ of financial
statements is available, the UITF seeks to arrive at a consensus on the
accounting procedures which should be adopted to rectify the situation.
Where the UITF reaches a consensus on an issue (which is achieved only
when at least eleven members vote and no more than two dissent) they
produce the consensus in the form of a UITF Abstract.
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This abstract is then ratified by the ASB after ensuring that it does not
conflict with the law, accounting standards or their present or future policy or
plans; also ensuring it has regard to international developments.
If the abstract meets the criteria laid down by the ASB, it is adopted without
further consideration. The UITF Abstract is then circulated and is thereafter
regarded as accepted practice in the area in question.
International Accounting Standards Board
The International Accounting Standards Board (IASB) was formed in April
2001 and is an independent accounting standard-setter based in London.
The International Accounting Standards Committee (IASC) had complete
autonomy in setting international accounting standards and in publishing
discussion documents on international accounting issues until a restructuring
took place in March 2001 and the IASB assumed accounting standard -setting
responsibilities.
The IASB structure has the following main features: the IASC Foundation is
an independent organisation having two main bodies, the Trustees and the
IASB, as well as a Standards Advisory Council and the International
Financial Reporting Interpretations Committee. The IASC Foundation
Trustees appoint the IASB members, exercise oversight and raise the funds
needed, but the IASB has sole responsibility for setting accounti ng standards.
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Statement of Principles
The ASB published its Statement of Principles for Financial Reporting in
December 1999. Its conception is based on the recommendations of a report
produced by a review committee under the Chairmanship of Sir Ron D earing
CB, published in September 1988:
‘a lack of a conceptual framework is a handicap to those involved in setting
standards as well as to those applying them. ... We believe that work in this
area will assist standard-setters in formulating their thinking on particular
accounting issues, facilitate judgements on the sufficiency of the disclosures
required to give a true and fair view, and assist preparers and auditors in
interpreting accounting standards and in resolving accounting issues not
dealt with by specific standards.’
The Statement was derived from the ASB’s original informal frame of
reference with many of the original principles having contributed to the
standard-setting process for nearly ten years. The ASB refined and expanded
some of these original principles to produce the framework and intends to
continue doing so on a regular basis as accounting continues to evolve.
The Statement of Principles describes the accounting model that is used by
the ASB as the conceptual foundation for the ir work. Statements therefore
typically describe the standard-setter’s views on:
• the activities that should be reported on in financial statements
• the aspects of those activities that should be highlighted
• the attributes that information needs to have if it is to be included in the
financial statements
• how information should be presented in those financial statements.
The main purpose of the Statement is to provide a theoretical framework for
the consistent and logical formulation of account ing standards. It also
provides a framework which can be used to resolve accounting issues, the
absence of which was previously one of the greatest problems faced by
accountants. This framework establishes the needs and objectives of users,
and this assists in ensuring the consistency of a true and fair view.
The main role of the Statement is to provide conceptual input into the ASB’s
work on the development and review of accounting standards. Although the
Statement itself is not an accounting standard, a number of the principles
within the Statement play fundamental roles in existing accounting standards.
For example, the Statement’s views on the presentation of information about
financial performance are embodied in FRS 3 ‘Reporting Financial
Performance’ (see p11 of this pack).
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The Statement of Principles therefore plays a very important role in the
standard-setting process, although it is only one of the factors that the ASB
takes into account when setting standards. Other factors include legal
requirements, cost-benefit considerations, industry-specific issues, the
desirability of evolutionary change, and implementation issues.
The development of this conceptual framework took into consideration the
ASB’s belief that there is a need for accounting practice around the world to
converge towards a set of globally accepted standards. They are of the
opinion that a common set of principles should be adopted by all the
standard-setters involved to ensure convergence can be achieved.
Consequently they referred to framework documents from countries such as
Australia, Canada, New Zealand and the USA as well as the International
Accounting Standards Committee’s ‘Framework for the Preparation and
Presentation of Financial Statements’ so that unification cou ld take place as
straightforwardly as possible.
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Examples of Financial Reporting Standards
The Statement of Principles for Financial Reporting is, with appendices, over
a hundred pages long, and it is not an easy document for those approaching it
for the first time to dip into. Below are summaries of examples of FRSs.
Cash Flow Statement
Issued: September 1991
FRS 1 (Revised 1996)
FRS 1 (revised 1996) requires reporting entities within its scope to prepare a
cash flow statement in the manner set out in the FRS. Cash flows are
increases or decreases in amounts of cash, and cash is cash in hand and
deposits repayable on demand at any qualifying institution less overdrafts
from any qualifying institution repayable on demand.
An entity’s cash flow Statement should list its cash flows for the period
classified under the following standard headings:
•
•
•
•
•
•
•
•
Operating activities
Returns on investments and servicing of finance
Taxation
Capital expenditure and financial investment
Acquisitions and disposals
Equity dividends paid
Management of liquid resources
Financing
An appendix to the standard sets out examples of cash flow Statements for an
individual company, a group, a bank and an insurance group.
FRS 1 (revised 1996) replaced the original FRS 1 issued in September 1991
to replace SSAP 10 ‘Statements of source and application of funds’. At the
time the requirement for a cash flow Statement instead of a Statement of
source and application of funds represented a radical change in financi al
reporting. However, cash flow Statements had increasingly come to be
recognised as a useful addition to the balance sheet and profit and loss
account in their portrayal of financial position, performance and financial
adaptability (in particular in indicating the relationship between profitability
and cash-generating ability) and thus of the quality of the profit earned.
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Reporting Financial Performance
Issued: October 1992
FRS 3
FRS 3 has changed the way in which performance is reported. Its object ive is
to require entities to highlight a range of important components of financial
performance to aid users in understanding the performance achieved by the
entity in a period and to assist them in forming a basis for their assessment of
future results and cash flows.
The standard requires a layered format for the profit and loss account to
highlight a number of important components of financial performance:
(a)
(b)
(c)
(d)
results of continuing operations (including acquisitions);
results of discontinued operations;
profits and losses on the sale or termination of an operation, costs of a
fundamental reorganisation or restructuring, and profits or losses on the
disposal of fixed assets; and
extraordinary items.
The effect of the standard has been effectively to outlaw extraordinary items.
If any were to arise, the standard requires them to be included in the earnings
figure used to calculate earnings per share.
The standard also requires a Statement of total recognised gains and losses to
be shown. This is a primary financial Statement that includes the profit or
loss for the period together with all movements in reserves reflecting
recognised gains and losses attributable to shareholders.
A note of historical profits, which is a memorandum item, is also required.
The purpose of this note is to present the profits or losses of entities that have
revalued assets on a more comparable basis with those of entities that have
not.
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Goodwill and Intangible Assets
Issued: December 1997
FRS10
The objective of FRS 10 is to ensure that purchased goodwill and intangible
assets are charged to the profit and loss account (income Statement) in the
periods in which they are depleted.
The standard takes the view that goodwill arising on an acquisition (i.e. th e
cost of acquisition less the aggregate of the fair value of the purchased
entity’s identifiable assets and liabilities) is neither an asset like other assets
nor an immediate loss in value. Rather, it forms a bridge between the cost of
an investment shown as an asset in the acquirer’s own financial Statements
and the values attributed to the acquired assets and liabilities in the
consolidated financial Statements. Although purchased goodwill is not in
itself an asset, its inclusion amongst the assets of the reporting entity, rather
than as a deduction from shareholders’ equity, recognises that goodwill is
part of a larger asset, the investment, for which management remains
accountable.
An intangible item may meet the definition of an asset when access t o the
future economic benefits that it represents is controlled by the reporting
entity, whether through custody or legal protection. However, intangible
assets fall into a spectrum ranging from those that can readily be identified
and measured separately from goodwill to those that are essentially very
similar to goodwill. The basic principles set out in the standard for
accounting for intangible assets that are similar in nature to goodwill are
therefore closely aligned with those set out for goodwill.
The standard requires purchased goodwill and certain intangible assets to be
capitalised and, in most circumstances, to be amortised systematically
through the profit and loss account (usually over 20 years or less).
Impairment reviews must be undertaken, particularly if the goodwill or
intangible asset is regarded as having an infinite life and is therefore not
being amortised. Internally generated goodwill should not be capitalised and
internally developed intangible assets should be capitalised only w here they
have a readily ascertainable market value.
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Tangible Fixed Assets
Issued: February 1999
FRS15
FRS 15 sets out the principles of accounting for tangible fixed assets, with
the exception of investment properties, which are dealt with in SSAP 19
‘Accounting for investment properties’. The objective of the FRS is to ensure
that tangible fixed assets are accounted for on a consistent basis.
Consistently with previous practice (as reflected, for example, in the
Companies Act), the FRS permits a choice as to whether tangible fixed assets
are stated at cost or at revalued amount. However, where an enterprise
chooses to adopt a policy of revaluing some assets, all assets of the same
class (that is, those with a similar nature, function or use) must be revalued.
The FRS also contains requirements that ensure that the valuations are kept
up to date.
FRS 15 incorporates many of the requirements of SSAP 12 ‘Accounting for
depreciation’ which it will supersede in due course. The FRS acknowledges
that in a limited number of cases, no depreciation charge may be made on the
grounds that it is immaterial. Where this is the case, or where depreciation is
calculated on a basis that assumes that the useful economic life of an asset is
longer than fifty years, the standard requires annual impairment reviews to be
performed, to ensure that the carrying amount of the asset is not overstated.
FRS 15 is effective for accounting periods on or after 23 March and is in
place as a result of following the Accounting Standards development
procedure discussed previously which resulted in FRED 29 being produced
and put up for discussion to interested parties. Acceptance of this proposal
results in SSAP 19 now being superseded.
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Accounting Policies
Issued: December 2000
FRS 18
FRS 18 deals primarily with the selection, application and disclosure of
accounting policies. Its objective is to ensure that for all material items:
• an entity adopts the accounting policies most appropriate to its particular
circumstances for the purpose of giving a true and fair view;
• the accounting policies adopted are reviewed regularly to ensure that they
remain appropriate, and are changed when a new policy becomes more
appropriate to the entity’s particular circumstances; and
• sufficient information is disclosed in the financial Statements to enable
users to understand the accounting policies adopted and how they have
been implemented.
The FRS supersedes SSAP 2 ‘Disclosure of accounting policies’, which was
published in 1971. Although in many respects SSAP 2 was still broadly
satisfactory, the framework within which it discussed accounting policies was
out of step with modern accounting. The FRS updates that framework to
make it consistent with the ASB’s Statement of Principles for Financial
Reporting.
The FRS comes into force for accounting periods ending on or after 22 June
2001, except for certain requirements relating to Statements of Recommended
Practice (SORPs), which come into force for accounting periods beginning on
or after 24 December 2001. Earlier adoption is encouraged.
Summary of requirements of FRS 18
The FRS requires accounting policies to be consistent with accounting
standards, Urgent Issues Task Force (UITF) Abstracts, and companies
legislation. Where this constraint allows a choice, the FRS requires an entity
to select whichever of those accounting policies is judged to be most
appropriate to its particular circumstances for the purpose of giving a true
and fair view.
An entity should judge the appropriateness of accounting policies to its
particular circumstances against the objectives of:
•
•
•
•
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relevance
reliability
comparability
understandability.
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The constraints that an entity should take into account are the need to balance
the different objectives, and the need to balance the cost of providing
information with the likely benefit of such information to users of the entity’s
financial statements.
An entity’s accounting policies should be reviewed regularly to ensure that
they remain the most appropriate to its particular circumstances. An entity
should implement a new accounting policy if it is judged more appropriate to
the entity’s particular circumstances than the present accounting policy.
The FRS requires specific disclosures about the accoun ting policies followed
and changes to those policies. It also requires, in some circumstances,
disclosures about the estimation techniques used in applying those policies.
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Financial Accounting Regulations – Questions
1.
Explain the structure of the board of the ASB.
2.
How many members are required to reach consensus on decisions?
3.
What are Statements of Standard Accounting Practice gradually being
replaced with?
4.
The International Accounting Standards Committee was formed in 1973
as a result of an agreement by accountancy bodies in several countries.
Access their website at www.iasb.org and identify which countries were
involved in the original committee.
5.
Why was the Statement of Principles established?
6.
Name two situations where someone auditing accounts may refer to the
Statement of Principles.
7.
Which FRS deals with extraordinary items?
8.
Where would an insurance group find the appropriate layout for a cash
flow statement?
9.
Which FRS ensures that sufficient information is disclosed to users of
financial statements?
10.
How can tangible assets be valued?
11.
How is the value of goodwill on a purchase calculated?
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Financial Accounting Regulations – Solutions
1.
The ASB has up to ten board members. The chairman and technical
director are full-time members while the remainder, who represent a
variety of interests, are part-time. Board members are appointed by a
Nominations Committee comprising the chairman and fellow directors
of the Financial Reporting Council (FRC). Three observers also attend
ASB meetings.
2.
Under the ASB’s constitution, votes of seven board members are
required for any decision to adopt, revise or withdraw an accounting
standard.
3.
Financial Reporting Standards.
4.
Australia, Canada, France, Germany, Japan, Mexico, the Netherlands,
the United Kingdom, Ireland and the United States.
5.
After recommendation in a report produced by a review committee of
the ASB, which recommended that a conceptual framework would ass ist
preparers and auditors to interpret accounting standards.
6.
Any examples of situations with regard to activities reported on in
financial statements; aspects of activities which should be highlighted;
necessary attributes of financial information and presentation of
financial information in financial statements.
7.
FRS 3 Reporting Financial Performance.
8.
FRS 1 Cash Flow Statements.
9.
FRS 18 Accounting Policies.
10.
At cost or at revalued amount.
11.
The cost of acquisition less the aggregate of the fair value of the
purchased entity’s identifiable assets and liabilities.
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Section 2
Social Accounting
Social accounting is a way of measuring and reporting on an organisation’s
social and ethical performance. The question of whether environmental and
social accounting should be developed has been replaced by the questions of
how and when. Whether these developments will arise through legal, market,
professional or industry initiatives is not yet clear, but there is both an
inexorability and an inevitable desirability about these new accounting
developments. No well-managed business or self-respecting professional
accountant can afford to ignore them.
The purpose of a business is not just to make a profit. To assume that profit
is the only goal is to mistake the means for the end. The idea that those who
provide the financial backing are the company’s rightful owners is outdated.
Today, the value of a company is determined largely by its intellectual
property, brands, patents, and the skills of its workforce. According to
Charles Handy, a UK management guru and renowned modern commentator,
‘A good business is a community with a purpose, and a community is not
something to be “owned”.’ A company should think of itself as a wealth creating community, with members rather than employees. It seems only fair
that the members of the community who contribute their intellectual assets
should receive dividends as well as those who contribute their money. The
company should make a contribution to society and the measure of success
for an organisation should include outcomes for others as well as outcomes
for its members.
Social accounting is a diverse activity and is principally concerned with
offering a complementary form of accounting as an al ternative to the
dominant economic and profit-orientated emphasis of companies; it has been
driven since the early 1970s by a desire to emphasise organisations’
accountability in wider terms than economic activities. Organisations have
many stakeholders who it is suggested have a responsibility to be interested
in the activities undertaken by a company beyond their financial pursuits,
namely social and environmental activities.
Historically, social accounting was concerned with the local community,
employees, consumers and environmental issues. Nowadays, awareness is
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raised regarding issues such as fair trade, trade with repressive regimes and
transfers of wealth between developing and developed countries. Nowadays,
most major organisations will include in their annual reports social
information about their policies on working practices such as equal
opportunities; and they will report on projects undertaken in the community
or worldwide on social or environmental issues to display their intention to
strengthen their social responsibility.
Social accounting extends to matters such as pollution and environmental
issues, as one might expect; and it includes many other issues as well, for
example:
•
•
•
•
•
•
•
unsafe products and work places
cost padding and fraud in defence contracting
corporate bullying of communities
racism
equal opportunity for and the exploitation of women and other groups
economy in operations
the results of public sector activities as reflected in accomplishment,
benefits and effectiveness.
Environmental issues
We are all part of the natural environment and depend upon it for our
existence and our social, economic and financial systems are directly
responsible for the environmental problems we are facing today. These
systems are significantly influenced by accounting procedures.
Raising awareness of environmental factors can allow companies to:
• recognise the hidden costs of waste, leading to considerable savings in raw
materials use, labour costs, employee protection, traini ng, energy use and
insurance costs
• evaluate potential social impacts as a part of business decision -making
• identify and address process inefficiencies more easily, resulting in ripple effect savings.
The twentieth century saw a vast increase in business activity with gigantic
technological changes that occurred alongside the downward spiral in the
health of the natural environment upon which we all depend. Many countries
enjoy a very materialistic lifestyle whilst others face poverty and starvation .
There are two reasons why accounting should pay attention to environmental
issues. Firstly, business and accounting are inextricably linked and since
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business has to respond to environmental issues, so too accounting must move
with it in the same direction. Moreover, the accounting concepts of profit,
cost, success and failure are fundamental issues in the environmental crisis;
and without ‘greener accounting’ many environmental issues will not be
implemented.
Environmental accounting is a relatively new concept which needs to be
encouraged to become more widely taken up. As yet accounting standards or
professional accounting examinations have not changed sufficiently to be
encouraging and many businesses still have not reacted wholeheartedly to an
environmental agenda that has – so far – put little pressure on accountants to
adopt environmentally-responsible accounting techniques.
Sustainability
Sustainability is closely concerned with environmental issues. The
Brundtland Report (1987) suggested that sustainable development is
development activity ‘which meets the needs of the present without
compromising the ability of future generations to meet their own needs’.
Sustainability will almost certainly prove to be the most important policy
issue with which governments, business entities and society will have to
grapple in the near future as its two elements, eco-efficiency and eco-justice,
grow in prominence in the world today. (Although interestingly enough,
centuries ago this ethos was the one by which the Red Indians lived and
died.)
Sustainability therefore relates to both present and future needs that are both
social and environmental. These needs are commonly referred to as eco justice and eco-efficiency.
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Legal requirements
There are no current legal requirements that companies should report on the
extent to which their activities are in harmony with the demands of
sustainable development. Current environmental reporting and management
practices have only the most tenuous connectio n with sustainability. Current
guidelines which appear to deal with the issues – notably the International
Chamber of Commerce’s Charter for Sustainable Development and the
pronouncements from the World Business Council for Sustainable
Development – fail to address the deeper questions about total resource use,
let alone consider eco-justice issues. However, UK governments report
periodically on progress towards attempts to incorporate the requirements of
sustainability into the economic life of the nation. This, in turn, is bound to
influence the corporate environment in due course.
Furthermore, the European Union and the United Nations have explicitly
addressed the role that accounting will have to play if corporations are to rise
to the sustainability challenge and the United Nations Conference on Trade
and Development has instigated a range of research projects intended to
explore how accounting might contribute to moves in the direction of
sustainability.
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Social Accounting – Questions
1.
Explain the meaning of social accounting.
2.
Why should accounting pay attention to environmental issues?
3.
Name a legal requirement pertaining to environmental accounting.
4.
Use textbooks or the Internet to ascertain the definitions of the terms
eco-justice and eco-efficiency.
5.
Traidcraft is one of the pioneers of social accounting in the UK, having
published its first independently audited report in 1993. Using the
world wide web, access the social accounts of this fair trade company
(http://www.traidcraft.co.uk/socialaccounts/ ).
(a)
(b)
Suggest two examples from this website of eco-justice.
Identify two examples of eco-efficiency.
6.
Explain why you think Traidcraft is a pioneer of soci al accouting.
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SOCIAL ACCOUNTING
Social Accounting – Solutions
1.
Answer should relate to core notes.
2.
Business and accounting are linked, and business must respond to
environmental issues. Accounting must move along with it. Accounting
concepts of profit, cost, success and failure are fundamental issues in
the environmental crisis and ‘greener accounting’ will assist in
environmental issues being addressed.
3.
There are no legal requirements.
4.
Eco-justice asserts that it is not possible to care for the earth with out
also caring for humanity, and that seeking human justice must involve
care for the environment. Eco-efficiency puts forward the notion that
material and energy inputs should be reduced.
5.
(a)
Eco-justice
• encourages best practice in employment policies
• endeavours to have a direct impact on poverty
• influences others to trade/work/legislate to the advantage of the
poor.
(b)
Eco-efficiency
• Being sustainable in all they do
• Air travel: To have an increase in the WEIGHT of goods
carried by air that is no greater than the increase in third -world
purchases.
• Packaging: To have an increase in the net amount of packaging
waste (after allowing for recycling) that is no greater than the
increase in turnover.
6.
Traidcraft’s ethos is based on eco-justice and eco-efficiency principles.
These are:
• To highlight their commitment to their working strategies and to
develop appropriate indicators of impact for their stakeholders.
• To evaluate the success of their policies in terms of increasing their
direct impact; increasing their influence on others and enhancing
sustainability in a recognisable and measurable way.
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PRINCIPLES OF AUDITING
Section 3
Principles of Auditing
‘An audit is the independent examination of, and expression of opinion on,
the financial statements of an enterprise by an appointed auditor in
pursuance of that appointment and in compliance with any relevant statutory
obligation’ (Auditing Practices Board). The Auditing Practices Board (APB)
was established in April 2002, and replaces a previous APB which had been
in place since 1991.
The APB is committed to leading the development of auditing practice in the
United Kingdom and the Republic of Ireland so as to:
• establish high standards of auditing
• meet the developing needs of users of financial information
• ensure public confidence in the auditing process.
Auditing was established to ensure that the final record provided on financial
recordings was an accurate view of what had actually transpired between
parties, and legislation was enacted to protect the rights of interested parties.
An audit should ensure that the information produced by managers is not
misleading.
The distinction between the work of an accountant, who prepares the
accounting and financial information, and an auditor, who issues a report
after examining the financial evidence supplied, must be maintained even
though in practice the two jobs may overlap. It is essential that the auditor
should be able to undertake his work from an independent po int of view,
being free to exercise judgement and apply professional ethics as, unlike
some countries, an auditor in the UK is not subject to any outside vetting
process.
UK company law is virtually unique in that it requires all limited companies
to have their accounts audited. Companies with a turnover of less than
£90,000 are exempt from compulsory audit and those with a turnover between
£90,000 and £350,000 only require an independent accountant’s report.
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PRINCIPLES OF AUDITING
External Auditing of a plc
Auditor’s responsibility
In the case of a public limited company (plc), a large company could require
the efforts of a large team of accountants for an entire year to produce their
final accounts. The ownership of the plc belongs to the shareholders, but
control is normally delegated to a small number of directors, since it would
be impossible to run a company where every shareholder was directly
involved in management.
The directors will find themselves in situations where decisions have to be
made with immense implications for the all stakeholders in the company. It
has been suggested that the design of limited companies in terms of a board
of directors having total discretion over the strategies implemented within a
business leaves the way open for corrupt man agers to profit from the
investment of arms’-length and geographically widespread shareholders.
This corruption can be in the form of excessive remuneration packages or
substantial salaries. Stakeholders such as creditors can also be affected, as
limited liability ensures shareholders and directors have no direct
responsibility for amounts owed. This can result in high -risk gambles being
made in situations where a company’s future is threatened. If these gambles
pay off, no-one is a loser, but if not, creditors could lose out as assets which
could have been used to settle debts have been misspent as a result of the
gamble.
There are, of course, procedures which can be followed by shareholders to
attempt to ensure that directors are working in their be st interests.
Shareholders have the right to receive regular reports on performance and the
overall financial position of the company. However, as the directors will be
involved in the preparation of these reports there is still the possibility of
manipulation from that quarter.
The purpose of an audit therefore is not to provide any additional information
but to allow users more confidence about the quality and integrity of the
information available.
However, it is important to bear in mind that the auditor’s opinion helps
establish the credibility of the financial statements. The user, however,
should not assume that the auditor’s opinion is an assurance as to the future
viability of the entity nor an opinion as to the efficiency or effectiveness w ith
which management has conducted the affairs of the entity.
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PRINCIPLES OF AUDITING
But it is fundamentally important that stakeholders can be confident in an
audit report prepared by an independent source. This adds credibility to
financial statements, which without an audit report might be worthless.
The value of an external audit for stakeholders is therefore the credibility it
gives to the financial information provided by the board of directors. This
credibility can be ensured by the three forms of control which an au dit should
provide:
• Preventive control – if employees involved in the processing of accounting
data are aware that their work will be scrutinised, it is probable that extra
care will be taken in the preparation of the financial information.
• Detective control – it is still possible, however, that errors may be made in
the preparation of the financial statements. Auditing may uncover any
errors and allow them to be corrected prior to publication.
• Reporting control – if errors are uncovered by the auditor which the
directors are not willing to correct, the auditor can make stakeholders
aware of the circumstances by referring to the situation within the audit
report. This alerts stakeholders to the possibility that the information is
not reliable.
Statutory duties
An auditor’s primary duties are:
To give a true and fair view of the company’s state of affairs and its profit or
loss for the financial year
and
to ensure financial statements have been properly prepared in accordance
with the Companies Act 1985.
Auditors have statutory rights to assist them in the performance of their
duties. They have a right of access, at all times, to a company’s accounting
records and other documents, and the right to require directors and employees
of the company to provide information and explanations which they consider
necessary. They are also entitled to attend any general meetings and speak
on matters concerning them.
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The following diagram illustrates an auditor’s relationships within a plc:
Prepare financial
statements
Board of
Directors
Receive financial
statements
Provide audited financial
statements
Shareholders
Company
Working
relationship
Report on financial
statements
contract
Auditor
Examine and
report on financial
statements
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PRINCIPLES OF AUDITING
The Audit Report
An audit report should be clear, unambiguous and presented in terms that are
easily understood by all interested parties. It should be laid out in the
standard format covering seven main elements:
• The title
This should identify for whom the report has been produ ced. Although
the report is produced for all stakeholders, there may be a bias towards
particular interested parties, for example, if the needs of shareholders are
the primary consideration this should be stated in the title as the truth and
fairness of the financial statements have been considered from their
viewpoints. Alternatively, the audit may be carried out by creditors where
greater emphasis would be placed on valuation of assets for security
purposes; again, readers would have to be aware of th is bias.
• Identification of Financial Statement audited
An itemisation of each financial statement examined.
• Outline of respective responsibilities of the directors and the auditors
This simply states the legal positions of both parties in order t o ensure that
readers are aware of each party’s involvement in the accounting process.
• Basis of auditor’s opinion
This informs readers of the auditor’s legal duties in terms of the
Companies Act 1985.
• The auditor’s opinion
This should be an explicit statement as to the auditor’s opinion on the truth
and fairness of the financial statements, stating whether they give a true
and fair view of the financial position of the company and whether they
have been prepared in accordance with the Companies A ct 1985.
• The auditor’s signature
The report must be signed by the auditor to provide evidence that they
accept responsibility for the report.
• Date of report
The date is required to identify up to which date the auditor has had an
active duty of examining the financial statements.
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Principles of Auditing – Questions
1.
Why might it be considered unnecessary to audit the financial records
of a small company?
2.
Can you suggest a reason why a small company may choose to carry out
an audit on a voluntary basis?
3.
How could a board of directors influence an auditor’s report?
4.
How would you interpret the phrase ‘to give a true and fair view’ as
part of an auditor’s primary duty.
5.
The following situations have been identified within a large plc:
An auditor has been asked to help prepare a financial information report
by the directors of a manufacturing operation who are the majority
shareholders and wish to sell their controlling interest in the company.
The auditor has been offered a percentage of the amount raised by the
sale as payment. What would you advise the auditor to do?
6.
Access the Co-operative Insurance Services Financial Report for 2003
found at http://www.cis.co.uk/financial2003/. Open the Auditor’s
Report and answer the following questions:
(a)
(b)
(c)
7.
Which stakeholder group has the report been prepared for?
Which financial statements have been audited?
What is the auditor’s opinion of the financial Statements of the
CIS?
Access Traidcraft’s Social Accounts
(http://www.traidcraft.co.uk/socialaccounts/).
(a)
(b)
As there are no concise legal requirements for auditing social
accounts, which standard do Traidcraft use?
The auditor’s report refers to the methodology adopted by
Traidcraft to prepare their social accounts. Id entify four methods
used.
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PRINCIPLES OF AUDITING
Principles of Auditing – Solutions
1.
Often owners of small companies are involved in its management. They
therefore do not require to have their own interests protected.
2.
A small company may arrange an audit to provid e a useful source of
credible information about the company.
3.
They could influence the report by putting undue pressure on the
auditor with regards to levels of fees to be paid or renewal of the
auditor’s contract.
4.
Financial Statements must portray the financial affairs of the company
in such a way that anyone reading the statements can gain an
impression of the financial position and performance of the company –
similar to the one they would have obtained had they personally
monitored the recording of the transactions.
5.
The auditor should be advised not to proceed with the contract on these
terms of payment as he could allow himself to be influenced in such a
way as not to ‘give a fair and true’ view of the situation. He should
either decline the offer or agree a fee for the work beforehand.
6.
(a)
The Members of the Co-operative Insurance Society Limited
(b)
Profit & Loss Account; Balance Sheet; Cash Flow Statement
(c)
In our opinion, the financial statements give a true and fair view
of the state of affairs of the Society and the group as at 31
December 2003 and of the profit of the group for the year then
ended and have been properly prepared in accordance with the
Insurance Accounts Directive.
(a)
Institute for Social and Ethical Account Ability AA1000 standard.
(b)
• Define social objectives and ethical values of the organisation.
• Be clear about who are the stakeholders of the organisation.
• Establish indicators by which performance against the
objectives and values can be measured.
• Measure performance against the indicators.
• Gain the views of stakeholders about how they view the
performance of the organisation.
7.
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•
•
•
•
Report all of the above in as balanced a manner as possible.
Submit the report to independent audit.
Publish the report.
Gain feedback from stakeholders on the report’s findings.
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